Bank funding strategy and outcomes: views from around the world
In November 2019, KangaNews spoke to bank funders from Asia, Australia, Europe, Japan and North America – all of them active in the Australian dollar market – about market conditions, executing more diverse funding plans, sustainable debt and the role of noncore currencies. The consensus is that issuance diversity will play a greater role now new regulatory capital settings are largely bedded in.
GLOBAL MARKET CONDITIONS
Rich The past year has been largely benign for global bank wholesale funding, notwithstanding geopolitical noise and patches of volatility. How would you describe liquidity and pricing conditions this year?
At ANZ, we have taken a greater percentage than we normally would have out of our domestic market. This has created a ‘burden of choice’ for offshore issuance. Global conditions have been really good and we have experienced larger-than-expected domestic demand. It has been a double benefit.
For example, Commerzbank did its first additional tier-one (AT1) transaction just before the European summer break and we were able to generate well over US$10 billion in demand for a Reg S transaction, which is remarkable.
Due to a favourable market environment and robust investor demand, in the year to mid-November Mizuho has successfully issued US$6.3 billion equivalent of TLAC [total loss-absorbing capacity] bonds in US dollars and euros as well as A$1.7 billion (US$1.2 billion) of TCDs [transferrable certificates of deposit] with tight spreads.
At the same time, a slowdown has come about from the US-China trade tensions. These have caused us to revise down our loan-book forecasts. We had forecast 8-9 per cent loan growth in previous years, but this year we will likely be around mid-single-digit growth. Tension in Hong Kong means it could be at the lower end of mid-single-digit growth.
Loan-growth deceleration means we have a lower funding requirement. We want to avoid being overfunded so we have tuned down our funding activity. This leads to a more demand-oriented market because paper is scarcer, and as a result spreads have tightened.
Even so, we won’t fund if we don’t have a requirement. The yield on transactions would have to get to a ludicrously low level before we thought about taking on funding for which we didn’t have an immediate requirement. While we may pre-emptively fund to meet short-term forecasts, we don’t make a multiyear estimate and then take a view on spreads.
We have also been active in euros and Australian dollars, for a total of three global deals so far this fiscal year. We have seen very good demand from investors for each transaction and have been able to issue at very good pricing – even tighter than our expectations.
This policy change has had a positive effect on the fixed-income market, which has performed very well. We have captured these good conditions by issuing large transactions in US dollars and we have also seen other names able to print very large volume.
Zaunmayr We have gone from globally synchronised growth in 2017 to rates heading towards zero across the board in 2019. How are ultra-low rates and spreads affecting demand patterns?
If this is the case, investors should be looking to hold short-duration products and higher-grade products such as covered bonds. In a spread-widening environment these will probably move less than senior notes. Investors can then liquidate covered bonds and take on the senior notes at a wider spread, assuming they can find them.
“One could say that no local reference [for Australian nonpreferred senior] makes it more challenging to find pricing points for a foreign issuer. Or you could argue that investors will have a lack of investment opportunities and may be more receptive to invest in the nonpreferred-senior instruments offered by offshore issuers.”
In the US dollar market, lower-for-longer has prompted investors to reach for yield either in credit or structure. As a result, we have seen strong support for our bail-in notes. In euros, we have seen broad-based support for bail-in notes and also for longer-dated covered bonds.
Zaunmayr The makeup of bank funding has evolved in response to capital rules, most recently TLAC, and what was once a very senior-unsecured-focused market now features a lot more diversity up and down the capital stack. How has this affected funding strategies? Do banks target particular types of issuance at specific markets or are they happy to respond to demand?
While it will still be demand-led, and while liquidity conditions are currently favourable, we will need to use more of our offshore options. There will be a price effect associated with this.
When I say issuance will be demand-led it is also worth pointing out that generally speaking demand goes hand-in-hand with the economics of a trade. We certainly have less optionality around tier-two issuance than we do in normal unsecured issuance – because of the increase in size of our issuance now relative to the recent past.
However, we also have a large Australian dollar balance sheet in Oceania. We will continue to look to fund this balance sheet through local opco issuance as well as future Australian dollar TLAC deals when they suit.
In recent years, we have focused issuance of AT1 and tier-two notes in the Japanese domestic market while issuing foreign-currency denominated TLAC notes in global markets.
Commerzbank is an MREL [minimum requirement for own funds and eligible liabilities] issuer, so we are not affected by TLAC – but there is clearly a differentiation between nonpreferred senior and preferred senior.
We look at what proportion of issuance we need between nonpreferred senior and preferred senior to fulfil MREL on a rolling basis. In addition, we try to diversify our funding base into other markets, currencies and investors.
The role of Australian dollars in global funding portfolios
At face value, a lower cash rate might be expected to reduce investor – and thus issuer – interest in Australian dollar bonds. Global bank funders beg to differ, saying they expect Australian dollar issuance to increase, if anything – with domestic investor participation a key goal.
HALES The decline in the Australian dollar cash rate has not had a major impact on our issuance strategy as we have generally issued shorter-duration tenors in floating-rate format. We continue to see strong demand for our Australian dollar issuance.
Rich Has there been any progress from the Singaporean regulator on a TLAC regime?
Zaunmayr Australia now has a TLAC-equivalent regime but not a ‘tier-three’ asset class. How will this affect the shape of the Australian market?
Nonpreferred senior is a very important instrument for the rest of the world. Therefore, you could argue along two lines regarding investor engagement.
One could say that no local reference makes it more challenging to find pricing points for a foreign issuer. Or you could argue that investors will have a lack of investment opportunities and may be more receptive to investing in the nonpreferred-senior instruments offered by offshore issuers. Clearly it will be very interesting to see which behaviour will lead investment decisions.
When local big-four banks are issuing a large amount of tier-two bonds, we expect investor demand for TLAC bonds issued by foreign financial institutions might be affected – because yield on these instruments is generally lower than tier-two bonds. We still expect demand for TLAC bonds will be sufficient to maintain current yield and spread levels, though.
Rich Which currencies worked best for banks in 2019 and which were more challenging – in particular relative to 2017 and 2018?
We conducted inaugural transactions in New Zealand dollar opco and Australian dollar TLAC in 2019 and can say these markets worked well for us. We also issued a number of successful US dollar and euro TLAC transactions. These markets also continue to work for us.
We were also pleased to access bail-in funding in euros and Australian dollars in 2019, executing the first bail-in issuance by a Canadian bank in both these markets.
Now we have more funding to do as the bank grows on the asset side and we still have maturing debt. We are therefore looking more closely into other markets.
We have done so very successfully with three tier-two transactions into Asian markets in the last couple of years. We did our first Singapore dollar trade in 2017 followed by a second Singapore dollar tier-two and an Australian dollar tier-two in 2018.
In 2019, we also issued our inaugural US dollar, Reg S AT1. This deal enjoyed significant support from Asia: we were able to allocate 25 per cent of the bonds to Asian investors – with interest in the orderbook that was significantly greater than 25 per cent.
These are our first steps into the Asian region. Clearly we want to continue on our way – to issue instruments in other markets such as preferred senior and nonpreferred senior.
However, Mizuho has issued more euro-denominated bonds in 2019 than previous years due to the funding-cost efficiency that has been evident in the market.
For Australian dollars, Mizuho Bank Sydney Branch (Mizuho Sydney) has issued a certain amount of TCDs because the funding cost was much more attractive than TLAC. This is the first time Mizuho Sydney has issued two benchmark deals in the same year and it was also able to increase the amount issued, number of participating investors and domestic participation to higher levels than ever before.
We haven’t really had a hard job of filling that gap and there have been no real challenges in individual markets. It is just that some appear better than others at times. In particular, the euro market is performing quite well right now. This is why we were able, in November, to print a tier-two transaction in Europe – which is something we hadn’t done in a decade.
Hopefully the timing works well in that our increased tier-two need dovetails with demand in the euro market. With a bit of luck, the fact that we have spent a lot of time in Europe over the years maintaining close contact with investors will pay off.
Rich How important is currency diversity beyond the G3 to banks’ funding tasks?
In the past year, diversity may not have been crucial but it is in the years where we come across comprised liquidity conditions that our diversity comes into play. The cost of maintaining diversity during the good times eventually gets repaid during the challenging times.
As an example, we recently increased our RMBS [residential mortgage-backed securities] issuance and the investor base for this product has had a large offshore component even though our issuance is in Australian dollars. Although it doesn’t appear on the surface to offer diversification, the investor base is strongly represented offshore – particularly in Japan and other parts of Asia.
We use a materiality process to map sustainability risks across industries. We do a lot of impact reporting to understand the use of proceeds from GSS bonds and can look at things like specifically how much carbon an investment has saved.
We also align our reporting with the SDGs, looking at what companies are saying they have aligned to. A lot of impact reporting is driving discussion with clients and some of it is a collaboration with clients as well.
Other than bonds, TCDs and cross-currency repo are also funding measures Mizuho uses effectively to reduce the liquidity costs of local-currency funding.
Currency diversification is very important for us. Next fiscal year we will consider again whether Australian dollars is appropriate for our issuance.
GSS issuance and the growth of qualifying assets
International banks are keen to increase their activity in sustainable debt markets. Whether this means more green, social and sustainability (GSS) bonds depends on the scale of their qualifying asset books and how demand for labelled product evolves.
KOBAYASHI We had very good demand from domestic investors for our Australian dollar green bond. We need to consider our green-bond issuance from an economic point of view, though, because we have limited eligible green assets. This means we need to consider the currencies that will be most effective for demand and which markets will be most suited to our ESG [environmental, social and governance] approach.
If we think issuing an Australian dollar TLAC green bond will give us the best outcome, we will do so. But US dollars and euros are also very good markets for green bonds.
We also understand that Australian domestic investors tend to prefer Australian domestic assets to back green-bond issuance. So we need to be conscious of the projects we have in Australian dollars.